The Impact of Creditor Protection on Stock Prices in the Presence of Credit Crunches
29 Pages Posted: 19 May 2011
There are 2 versions of this paper
The Impact of Creditor Protection on Stock Prices in the Presence of Credit Crunches
The Impact of Creditor Protection on Stock Prices in the Presence of Credit Crunches
Date Written: April 29, 2011
Abstract
Data show that better creditor protection is correlated across countries with lower average stock market volatility. Moreover, countries with better creditor protection seem to have suffered lower decline in their stock market indexes during the current financial crisis. To explain this regularity, we use a Tobin q model of investment and show that stronger creditor protection increases the expected level and lowers the variance of stock prices in the presence of credit crunches. There are two main channels through which creditor protection enhances the performance of the stock market: the credit-constrained stock price increases with better protection of creditors and the probability of a credit crunch leading to a binding credit constraint falls with strong protection of creditors. We find strong empirical support for both predictions using data on stock market performance, amount and cost of credit, and creditor rights protection for 52 countries over the period 1980-2007. In particular, we find that crises are more frequent in countries with poor creditor protection. Using propensity score matching we also show that during crises stock market returns fall by more in countries with poor creditor protection.
Keywords: liquidity crisis, creditor protection, stock volatility, credit crunch
JEL Classification: E440
Suggested Citation: Suggested Citation
Do you have negative results from your research you’d like to share?
Recommended Papers
-
Balance Sheet Effects, Bailout Guarantees and Financial Crises
By Martin Schneider and Aaron Tornell
-
Hedging and Financial Fragility in Fixed Exchange Rate Regimes
By A. Craig Burnside, Martin Eichenbaum, ...
-
By Francis E. Warnock and John D. Burger
-
By John D. Burger and Francis E. Warnock
-
Emerging Local Currency Bond Markets
By John D. Burger, Francis E. Warnock, ...
-
Why Do Emerging Market Economies Borrow in Foreign Currency?
-
Foreign Participation in Local Currency Bond Markets
By John D. Burger and Francis E. Warnock
-
Foreign Participation in Local-Currency Bond Markets
By Francis E. Warnock and John D. Burger
-
A Corporate Balance Sheet Approach to Currency Crises
By Philippe Aghion, Abhijit V. Banerjee, ...